Mortgage debt and the consumption response to interest rates
In this paper, Angus Foulis, Jonathon Hazell, Atif Mian, and Belinda Tracey ask the question: when interest rates fall, do households with mortgage debt actually spend more, and if so, why? A secondary question is which mechanism within the debt channel does the heavy lifting: is it the straightforward cash-flow relief from lower monthly payments, or is it the collateral/asset-price channel i.e. lower rates → higher house prices → households can borrow more against their home?
Fourlis et al. exploit a distinctive feature of UK mortgages: roughly 95% of borrowers take fixed-rate deals lasting 2, 3, or 5 years. When a deal expires, households face a strong incentive to refinance immediately (staying on the expired deal triggers a penalty rate increase of at least 200bp), but they bear no cost from extracting equity at that moment. Crucially, the deal expiry date is predetermined at origination and it does not respond to the household’s income or economic conditions at the time of refinancing. This is the key identification advantage over, e.g., the US, where refinancing is an endogenous choice.
The paper combines two data sources:
- FCA Product Sales Database (PSD): administrative data on the universe of UK outstanding mortgages (8 million at any time) from 2015 to 2024, covering loan size, rate, deal length, equity extraction, and debt service.
- Personal finance apps (ClearScore, Money Dashboard): transaction-level spending data for 200,000 mortgagors, matched to the PSD via postcode, date of birth, lender, and monthly payment amount. Spending categories follow the BEA classification into durables, non-durables, and services.
This yields 6.8 million deal expiration events in the mortgage sample and 69,000 events with matched consumption data.
The baseline regression relates the change in consumption around deal expiry to the change in mortgage rates over the life of the deal, with time fixed effects absorbing aggregate shocks. To isolate the financial accelerator, the debt channel is estimated region by region and linked to regional house price sensitivity to rates, instrumented by land supply elasticity and housing stock duration.
Findings
- The household debt channel is large. A 1% rate cut raises cash-on-hand by £1,818 (1.4% of the mortgage balance) in the 6 months after deal expiry, and raises consumption by £934 (3% of consumption). The aggregate implication is a 0.6% of GDP consumption response to a 1% cut.
- Borrowing dominates debt service relief. After 6 months, around two-thirds of the cash-on-hand increase comes from higher mortgage borrowing (equity extraction), and only one-third from lower debt service payments. This is the first sign that the mechanism involves more than simple cash-flow relief.
- The household financial accelerator accounts for half the effect. The financial accelerator i.e. lower rates → higher house prices → lower LTV → lower mortgage spread → more borrowing and lower debt service, accounts for 35–65% of the borrowing response. The cash-flow effect alone cannot explain the full transmission.
- The MPC out of rate-induced cash-on-hand. Instrumenting the cash-on-hand change with the rate change, the paper recovers a marginal propensity to consume of just above 0.6 after 12 months which is higher than typical MPC estimates from transitory income shocks, consistent with the persistent and price-change nature of the rate shock.
How Do Interest Rates Affect Consumption? The Household Debt Channel
Authors: Angus Foulis, Jonathon Hazell, Atif Mian, Belinda Tracey
From: Bank of England, LSE, Princeton University
Adjustable-rate mortgages and consumer spending in a tightening cycle
Matthew Elias, Christian Gillitzer, Greg Kaplan, Gianni La Cava, and Nalini Prasad ask the question: did the cash-flow channel of monetary policy, whereby higher mortgage repayments force households to cut spending, actually operate during Australia’s 2022–23 tightening cycle? More specifically, given that Australia has one of the highest shares of adjustable-rate mortgages (ARMs) in the world did ARM holders cut consumption when their repayments rose sharply by an average of A$13,884?
The authors exploit the Reserve Bank of Australia’s (RBA’s) 2020–21 forward guidance, which temporarily lowered fixed-rate mortgage rates below adjustable rates, causing a surge in fixed-rate take-up from 14% to 46% of new lending. When the RBA abandoned forward guidance and hiked rates 425bp from May 2022, ARM holders experienced large, unexpected increases in required repayments while fixed-rate holders did not, creating a clean treatment and control group.
Data. The authors used de-identified bank transaction records from a large Australian bank (covering around 25% of the market) for 83,321 individuals, November 2020–April 2024, capturing all spending, income, mortgage repayments, and account balances at monthly frequency.
Empirical design. Elias et al. used a difference-in-differences event study comparing spending of adjustable-rate vs. fixed-rate mortgagors before and after August 2022, when banks began passing rate hikes through to required repayments.
Findings
- Despite a cumulative A$13,884 increase in annual mortgage repayments for ARM holders relative to fixed-rate holders, spending showed virtually no difference between the two groups.
- Around 70–80% of the higher repayments were absorbed by drawing down savings (redraw/offset account balances); the remainder came from external fund transfers.
- The mechanism: Australian ARMs come with redraw facilities allowing excess past repayments to be redrawn as a liquid buffer. Households built up large such buffers during the pandemic and simply drew them down rather than cutting consumption.
The Mortgage Debt Channel of Monetary Policy when Mortgages are Liquid
Authors: Matthew Elias, Christian Gillitzer, Greg Kaplan, Gianni La Cava, Nalini Prasad
From: e61 Institute, The University of Sydney, University of Chicago, UNSW Sydney
